30 OCT 2013

Company Report

BUY
Target Price: Rs 3,099
CMP Potential Upside Relative to Sector MARKET DATA : Rs 2,577 : 20% : Outperformer

United Spirits
FMCG

Profit pool 5x in 5 years!!

No. of Shares Market Cap Free Float Avg. daily vol (6mnth) 52-w High / Low Bloomberg Promoter holding FII / DII PRICE PERFORMANCE

: 145 mn : Rs 374 bn : 64% : 1.4 mn shares : Rs 2,815 / Rs 990 : UNSP IB Equity : 36% : 42% /5%

COMPANY FINANCIALS (Consolidated)

Y/E Marc h
FY12 FY13 FY14E FY15E

KEY DRIVERS

S al es (R s mn)
92,444 106,950 120,903 142,099

Adj. PAT C onsensus (R s mn)

1,879 (1,012) 3,981 9,280

Adj. EPS
14.9 (8.0) 27.4

C hg
(67.0) (153.9) (440.7)

PE (x)
40.6 (236.0) 94.1

R oE (x)
4.3 (2.1) 6.3 11.1

R oC E (% )
5.7 4.8 6.2 8.6

EV/E (x)
13.7 29.3 29.9 20.9

DPS (R s)
2.5 2.5 2.5 2.5

(%) Volumes- standalone (mn cases) Gross Margin - Consol. Core EBITDA Margin - Consol.

FY13 123 44.3% 10.1%

FY14E FY15E 128 140

EPS (R s)
43.9 67.3

(R s) YoY (% )

45.0% 46.2% 11.6% 13.9%

Source: *Consensus broker estimates, Company, Axis Capital

63.9 133.1 40.4 CMP as on October 29, 2013

Kashyap Pujara Executive Director - Midcaps kashyap.pujara@axiscap.in 91 22 4325 1146

Sonali Salgaonkar AVP - Midcaps sonali.salgaonkar@axiscap.in 91 22 4325 1130

Hemant Patel Executive Director - Consumer hemant.patel@axiscap.in 91 22 4325 1105

Ajay Thakur AVP - Consumer ajay.thakur@axiscap.in 91 22 4325 1125

Contents

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

Page
Investment summary
Stringent regulations Economic moats for USL Immense room for improvement in USL Diageos marriage to USL 06 07 08 09

Phase 1: Rationalization in USL

Phase 2 : Localization of select Diageo brands Phase 3: Brand architecture (case study: Nestle vs. P&G in India)

11
18 20

Valuation and financials

Appendix: Industry/ Business overview

24
28

CONTEXT

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

We missed the wedding party of Diageo-USL, and tried to drown our sorrows over a couple of McDowell pegs. This is where it started...the debate on what could be the possible outcome of this wedlock. When the hangover receded, we touched base with the company and industry experts to analyze the DNA change which is under way at USL To cut a long story short, we concluded that Diageo will transform USL in a phased manner over the next 5 years, which will lead to the profit pool of USL exploding 5x by FY18. The first phase (FY14-16) will be focused on premiumization, rationalization of costs, working capital, deleveraging and possible monetization of non-core assets. In the second phase (FY16 onwards), USL could capture incremental synergies by locally manufacturing and marketing select Diageo brands. However, the long term path of USL remains unclear on how will the brand architecture of USL and Diageo brands be combined? Would Diageo upgrade the customer from McDowell to Johnnie Walker? If yes, how? Nestle and P&G have had diametrically opposite trajectories in India. Which way will USL go? While we have analyzed both the scenarios in the report, we conclude that the combination of sheer long term opportunity of the impenetrable Indian alcoholic beverage space, formidable positioning of USL (50% market share), and Diageos aggressive DNA is too potent a peg to ignore. While it is a multi-decade growth story, can an investor make returns buying USL at ~40x FY15E (CMP of Rs 2,577)? We would like to answer this question by drawing an analogy from Nestle India - an investor who bought the stock in the 90s at ~ 65x (trailing) multiple has compounded his investment at 20% CAGR till date. So did he really overpay? Likewise, we believe the growing earnings stream that USL will deliver over the next decade is not fully captured in the current CMP.
Initiate coverage with BUY rating and 12-month TP of Rs 3,099 (implies 20% upside from CMP). Key arguments are provided overleaf .
3

WHY INVEST?

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

Opportunity size is huge and growing: Indian alcohol market to double to USD 17 bn by FY18
Demographics, greater social acceptance and higher disposable income would increase alcohol consumption from ~305 mn cases to ~530 mn cases with per capita consumption rising from ~3.5 to ~5 litres over next 5 years Premiumization now comprises 47% of industry value vs. ~ 30% in last decade

Stringent regulations assure that USL with ~50% market share is well placed to capture this opportunity
All aspects of the business manufacturing, distribution, retailing and pricing are regulated diversely at the state levels along with ban on advertising; hence strong entry barriers

These regulations, advertising ban and stringent tax structures make brand building and national distribution difficult
USL is an attractive bride, with unmatched pan-India manufacturing (40 owned + 42 CBUs*) and distribution presence (> 60k dealers). Solid brand presence with 20 millionaire brands across price points

Despite lucrative positioning, USL is less efficient in terms of profitability/ capital efficiency, leaving immense room for Diageo to improve USL
With Diageo having taken management control, we believe USL will transform in a phased manner leading to 5x rise in profits to ~Rs 19.7 bn by FY18 along with > 500 bps expansion in EBIDTA margin In Phase 1, Diageo could rationalize costs across the value chain, induct financial discipline in working capital, capex Diageo could also monetize non-core assets, like W&M and UBL stake. This would lead to further deleveraging and earnings upside - which we are not factoring in (RoE could rise to 17% in FY16). Later phases could also see some synergisation with select Diageo products Going by the China experience, we believe there is high probability that Diageo will take a majority stake (51%+ from current 25%) in USL going forward. This could provide a downside cushion to stock price

* Contract Bottling Units (CBUs)

Next few years for USL

Regulations act as entry barrier for competition USLs leadership intact, with immense room for improvement Diageo to transform USL in a phased manner, over next few years

Tough regulations hinder competition to tap lucrative pie

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

Primary structure of Indian alcohol market Either or both distribution and retailing completely government controlled Private participation is limited or restricted in these channels Eg: Tamil Nadu, AP, Karnataka, Kerala

Govt. Controlled (~80%)

Indian alcohol (~305 mn cases)

Auction Market (~10%)

Private participation in auction/ lottery system, generally on an annual basis Could possibly lead to high degree of syndication Eg: UP, Punjab, Haryana

Free (Open) Market (~10%)

Both distribution and retailing are open for private participation Price is generally a function of demand/ supply Eg: Maharashtra, West Bengal, Goa

Regulations in Indian alcohol industry govern almost every aspect of the value chain manufacturing, distribution, retail and pricing and are state-specific in nature. Inter-state transportation of alcoholic beverages is a challenge given the tax structure USLs attractive positioning (50% market share + unmatched presence), coupled with Diageo DNA will enable it to capture higher share of the rising pie*

* For Industry overview and growth, refer APPENDIX

Diageo catapults to top slot by acquiring USL a formidable brand

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

USL has significant economic moats, capable of rendering long-term competitive advantage by creating a market barrier for other firms:
Pan-India presence enables in-depth dealing of complex regulatory structure across states Dominant in India (value market share ~50% vs. next best competitor at 16%) *
Extensive distribution network capable of servicing ~64,000 outlets, 98% of on- and off-premise network Sales offices in key cities, with ~750 company sales personnel + ~900 third party merchandisers Largest manufacturing base across most states: ~40 owned plants and ~42 Contract Bottling Units (CBUs)

Solid brand presence in an industry where advertising is banned

Established brand presence across almost all price categories Portfolio boasts of 20 Millionaire brands, indicating high consumer loyalty and recall factor

Significant market share

~41% volume market share and ~50% value market share of the Indian IMFL industry

* For volume market share data, refer APPENDIX

Immense room to improve efficiency

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

USL *
Volume sales - FY13 (mn cases)
Gross Margins (%) Distribution / Route to market ~123

Pernod Ricard
~31

Radico Khaitan
~19

~44

~60#

~54

No. of millionaire brands

Brand presence across flavors Working capital/ sales @

20

~80% ~14% ~99 ~6

Negative ~30% > 200 ~90

Very high

~65% ~15% ~95 ~11

High Medium
Low

EBITDA margin (FY13)

EBITDA / Case (Rs) RoE (FY13) (%)
Source: Company, Industry, Axis Capital

*Standalone for comparable purposes #Estimated @ Including loans & advances, ex-cash

Diageo will transform USL in a phased manner

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

Phase I (FY14-16)
Rationalization in USL

Phase 2 (FY16 onwards)

Incremental synergies with USL

Phase 3
Brand architecture

Acquire management control Re-jig USL board and leverage Diageos skills in the entire value chain Improve transparency and disclosure standards Induct financial discipline Deleverage balance sheet Rationalize working capital and capital expenditure Cost-cutting Could increase stake Likely monetization of non-core assets Whyte & Mackay (W&M) Investments in United Breweries Ltd (UBL)

Diageo would start distributing its brands through USLs distribution networks in Phase 1 itself In Phase 2, Diageo could initiate manufacturing of its select brands using USLs panIndia supply base In exchange, Diageo could pay USL fees for manufacturing and distribution

In the long term, would Diageo push its premium brands such as HAIG, VAT 69, Black & White, etc over USL brands resulting in wider acceptance of its brands? Would this drive higher profitability for unlisted Diageo owing to better profit margin in premium brands? We are unclear on how this Phase will pan out

We have factored in Phase 1 and 2 only Monetization of non-core assets could incrementally fetch ~Rs 53 bn, which could further deleverage USL
9

stimulating surge in USLs revenue and profit pool

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

USL has 51% value market share in Rs 370 bn Spirits market in India (FY13)
Mohan Meakin 1% Tilak Others 2% 19%

Rs 190 bn
Excise Rs 103 bn

Globus Spirits 2%
Jagatjit 4% Pernod Ricard 16%

Rs 3.5 bn
Profit (4%)

USL is expected to grow ahead of market at 16% CAGR over FY13-18, driven by increased market share and greater brand thrust by Diageo Premiumization to play out with Prestige and above category (23% of volumes) of USL expected to grow faster by 20% CAGR over FY18. Regular category could stagnate at 5% Profit pool explodes due to better mix and pricing (Prestige and above category generates 4x EBIDTA margin vs. regular), cost rationalization (manpower, A&P, etc) and interest cost reduction (due to deleveraging and better interest rates due to Diageo)

United Spirits 51% Net Sales Rs 86 bn

Radico Khaitan 5%
Source: Industry, Company, Axis Capital;

* Based on standalone numbers

Premiumization-led market share gains to improve profitability by FY18

Mohan Meakin 1% Tilak 2%

Rs 19.7 bn
Profit (11%)

Rs 381 bn
Others 16%

Globus Spirits 2% Jagatjit 4%

Radico Khaitan 5% Pernod Ricard 17%

Excise Rs 218 bn United Spirits 53% Net Sales Rs 179 bn

Source: Industry, Company, Axis Capital;

* Based on standalone numbers

10

Phase 1: Rationalization in USL

Diageo in fire-fighting mode (FY14-16)

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

Step 1: Change in management control

Change of CEO: Mr. Anand Kripalu inducted as CEO of USL in September 2013 (ex CEO Cadbury India, with over 2 decades experience in FMCG industry) Rejig in board composition: Mr. Gilbert Ghostine (President of Asia-Pac region), Mr. Ravi Rajagopalan (team Diageo), Mr. Paul Walsh (ex CEO of Diageo PLC, having received admiration for his ability to build brands), Ms. Renu Sud Karnad (MD of HDFC) join USL board Expected to improve transparency and disclosure standards in USL, as per Diageos global standards

Step 2: Induct financial discipline in USL

Money infused from stake sale to be employed in deleveraging USL balance sheet (D/E of 0.3 x in FY16E vs.1.7x in FY13) Working capital to be rationalized (WC/ net sales of 32% in FY16E from 46% in FY13) Cut down on non-core costs: Accenture has been appointed to suggest cost rationalization measures in USL (EBITDA margin to expand by +500 bps) Example: Some employees of USL have been already transferred to UBHL few months back

Capital expenditure to be stringently examined in order to justify profits

Step 3: Monetization of non-core entities

Whyte & Mackay (W&M) is non-core investment for Diageo W&M would not fit in Diageos framework production centre or blending scotch Funds received from sale of W&M could be deployed for deleveraging the balance sheet further

USL currently holds ~3% in UBL , amounting to ~Rs 8 bn, which could be monetized

Phase 1 expected to yield immediate accretive results in USL

12

EBITDA margin to improve 500 bps+ over next three years

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

20

(%)
Consistent Premiumization in favour of Prestige and Premium brands should drive better sales mix

Scale benefits and manpower rationalization. Recently transferred ~50 employees from United Spirits to erstwhile Parent company, UBHL

16

1.2 1.3 1.5

Cost rationalization initiatives and cost control will drive lower overheads

12 1.5 8 10.1

Regular price increases likely to be more than input cost inflation driving margin gains

15.7

0 FY13 Sales mix Pricing Employee cost Overhead expenses FY16E

Source: Axis Capital

13

Consolidated balance sheet profile to improve

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

Diageos cash infusion to aid in lower debt and better return ratios
D/E 4.0 3.0 2.0 1.0 0.0 FY09 FY10 FY11 FY12 FY13 FY14E FY15E FY16E
Source: Company, Axis Capital

12 9

Free cash flow to average Rs 12 bn+ over next 3 years

Improving profitability and higher asset turns should aid in improving return ratios Working capital efficiency to improve as loans an advances to related parties (of UB group) reduces We are skeptical of the capex guided by previous management, as Diageo is unlikely to spend on setting up new bottling units (USL already has over 80 units including the contracted capacity) or backward integration

RoCE (RHS) (%)

(x) 2.7 1.6 1.5 1.7 1.6 0.7 0.5

6 0.3 3 0

Working capital days likely to decline as L&A reduces

Working Capital 150 120 90 60
30
114 123 118 104 94 86 77 72

Rising free cash flow

Loans and advances (RHS) (% of Sales) 30% 25%

20%

(Days)

20.0 15.0 10.0 5.0

0.0

(Rs bn)
7.8

9.9

12.4

14.6

15% 10% 5% 0%

1.4

3.1

1.2

-5.0 FY09 FY10

FY09

FY10

FY11

FY12

FY13

FY14E FY15E FY16E

-2.9 FY11

FY12

FY13

FY14E

FY15E

FY16E

Source: Company, Axis Capital

Source: Company, Axis Capital

14

Whyte and Mackay spin off to provide additional kicker

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

Profitability impacted by losses in subsidiaries

11 7 3 (1) (5) FY07 FY08 FY09 FY10 FY11 FY12 FY13
Source: Company, Axis Capital

EBITDA grew 2.5x in 6 yrs, but standalone profit had been flat due to interest cost

(Rs mn)

Standalone EBITDA Standalone Profits Consolidated reported profit

W&M acquisition has impacted consolidated profitability

USL reported consolidated losses in three of the last five years, despite healthy standalone profits
This could be attributed to high interest cost for servicing debt of US$ 1.2 bn undertaken for acquisition of Whyte and Mackay (W&M) in 2007 Acquisition of USL could potentially bring W&M scotch business under the ambit of UKs anti-monopoly regulator

Asset sale could provide up to 20% earnings upside

Non-core assets such as W&M and investments in United Breweries (UBL) could potentially fetch Rs 53 bn or higher based on market/inventory value

Sensitivity of sale of W&M to profitability and key financial metrics

(R s b n) Earl ier Profits Change in Profits D/E (x) RoE (%) Working Capital (days)
Source: Axis Capital

F Y15E New 12,973 40% Net Cash Positive 14.8 40 Earl ier 13,269 0.5 14.0 72 9,280 0.7 11.1 77

F Y16E New 16,870 27% Net Cash Positive 17.3 38

Our sensitivity analysis indicates sale of W&M (at its inventory price) and UBL stake could provide 27-40% upside to our FY15 and FY16 estimates
Sale of W&M to result in improved working capital (since W&M has ageing scotch inventory), return ratios and lower the leverage Sale of ~3% stake in United Breweries could fetch Rs 8.2 bn. This could further bring down leverage and aid higher profitability

15

Diageo s China acquisitions exhibit persistency to gain controlling stake

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

Acquired Diageos creeping acquisition of Quanxing (China)

July 2013 received approval to acquire rest 47%

STAGE 2

STAGE 1

July 2008 increased stake to 49%

STAGE 3
July 2011 increased stake to 53%; extra 4% for 14 mn GBP

STAGE 2

Diageo increased its stake in Quanxing to 93% over 2007-2013

STAGE 3

It has three options:

We believe Diageo would increase stake in USL once new management sets in Open offer Preferential share purchase Creeping purchase

Jan 2007 acquired 43% equity Stake for ~37 mn GBP 16

United Breweries: Sharp rerating in FY11, post Heineken partnership

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

Significant price rise: > 5x from Dec 2009 Dec 2012

UBL 600 500
400 300 200

Steep correction in working capital

Working capital days 120 100
80 (55%)

Sensex

60
40

100 0
Mar-10 Mar-12 Mar-13
Mar-11

20
Sep-10 Sep-11 Sep-12 Dec-09 Dec-10
Dec-11 Dec-12 Sep-13

Jun-10

Jun-11

Jun-12

Jun-13

0
FY08
Source: Company, Axis Capital

FY09

FY10

FY11

Source: BSE, Axis Capital

Notable sales growth

Growth in net sales (in %) 40%

Cost rationalization driving sharp rise in margin

Core EBITDA Margin (in %) 14%

30%

34%

250 bps

20%
10%

11%
8%

0% FY08
Source: Company, Axis Capital

FY09

FY10

FY11

5% FY08
Source: Company, Axis Capital

FY09

FY10

FY11

17

Phase 2: Localization of select Diageo brands

Incremental synergies to accrue to Diageo

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

Utilization of pan-India supply base to manufacture Diageo brands in India

Diageo could utilize USLs wide-spread manufacturing network to manufacture select Diageo brands in India Currently, Diageo has ~4 manufacturing (of which 3 are leased) facilities in India USL has pan-India manufacturing supply base with ~40 owned + ~42 CBUs Local manufacturing could rationalize pricepoints for Diageo brands, leading to traction among Indian consumers

Diageo to pay fees for distribution and manufacturing to USL

Diageo is currently selling its brands in barely 10 cities Diageo likely to pay USL fees for manufacturing and distributing Diageo brands in India

Phase 2 to auger well with Diageos long-term strategy ; would solidify its presence in India
19

Phase 3: Brand architecture

Can Diageo combine brand architecture?

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

USLs brands are mainly priced between Rs 200-700, whereas Diageo brands are at higher price points, starting from Rs 1,000+. Considering Diageos strategy to premiumize, we are unsure if (and how) it would journey the customer from USL to Diageo brands over the long term India being a price conscious market, could Diageo push its premium brands over USL, by lowering pack sizes and positioning them at similar price points, resulting in wider acceptance of Diageo brands? Would profitability be driven towards the unlisted Diageo India entity, leading to cannibalization of USL brands? Will USL walk the P&G or the Nestle path in India?

21

Case study: P&Gs unlisted arm grew faster than the listed entity
P&G operates through three different entities in India. While it already has both P&G Health and Hygiene (P&G HH) and Gillette (listed arms in India), it floated another entity P&G Home Products Pvt Ltd (P&G HP) in 1993 to foray into larger and more profitable detergents and personal care business. The same year detergents business was divested from the listed entity to the unlisted one Over last decade (FY0312), P&G s private entity has grown revenue by 11x to Rs 39 bn -- more than combined turnover of its other two listed subsidiaries P&G HH and Gilllette that grew 3x to Rs 25 bn

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

While P&Gs private entity reported a marginal loss in FY13 as it continued investing to grow, we believe the steady state profit margin could be 10% +, implying higher profitability in absolute terms than the listed companies combined
In this case, having a parallel entity in India could potentially lead to lower focus on the listed arm and lead to better profits for unlisted arm over the long term

Listed Gillette India turnover Rs 14 bn

Unlisted P&G Home Products Pvt Ltd turnover Rs 48.5 bn

Listed P&G Health and Hygiene turnover Rs 17 bn 22

Nestle India was rewarded better than P&G Health & Hygiene

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

Nestle has just one operating unit in India and thereby Nestles entire focus has been on growing the business profitably, driven by higher brand investment In fact, the parent had extended USD 450 mn loan to Nestle India to enhance its production capacity few years back, which reflects promoter focus to grow Indian subsidiary Nestle has also introduced several new products range at popular price points for consumers to uptrade to its premium category range This is in contrast with P&G India, where barely any new launches or facility has been added over last few years Thus, Nestle grew its revenue by 15% CAGR and Profits by 18% in past 11 years, ahead of 11% revenue CAGR and 8% profit CAGR for P&G Health and Hygiene during the same period Consequently, investors have rewarded Nestle better with 10x growth in market cap (vs. just 6x market cap growth for P&G India) during the period

Nestle Indias revenue has grown faster vs. P&G Health and Hygiene
Nestle India 500 400 300
200 100

P&G India
CAGR 15%

CAGR 11%

FY03

FY04

FY06

FY07

FY09

FY10

FY12 FY13

Source: Bloomberg, Axis Capital

Driving better returns for Nestle shareholders vs. P&G HH shareholders

1200
1000 800

Nestle India

P&G India

CAGR 23%

600
400

CAGR 17%

200 0
FY03 FY05 FY07 FY09 FY11
FY02 FY04 FY06 FY08 FY10 FY12 FY14

Source: Bloomberg, Axis Capital

FY13

FY02

FY05

FY08

FY11

23

Valuation and Financials

Initiate USL with BUY;1- year upside of 21%

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

1- year DCF-based target price of Rs 3,099 per share

St age 1 (Rs m n ) Net Sales - YoY growth % EBITDA (inc. other income) Less Tax Total Cash Inflow Capex Chng in WC Inc/ (Dec) Total Cash Outflow FCF PV of FCF PV of Cash Flow PV of Terminal Value Total PV of Firm Less: Debt (net cash) Equity Value Shares o/s (mn) I n t r i n si c V al / sh r (Rs) CMP K e y A ssu m p t i on s: FY 1 4 E 120,903 13% 15,280 1,974 13,306 2,671 726 3,397 9 ,9 0 9 9,508 123,383 404,740 528,123 77,846 450,277 145 3 ,0 9 9 2,577 20% FY 1 5 E 142,099 18% 20,729 4,584 16,145 3,260 473 3,733 1 2 ,4 1 3 10,826 FY 1 6 E 160,342 13% 26,017 6,668 19,349 3,724 1,023 4,747 1 4 ,6 0 1 11,575 FY 1 7 E 184,394 15% 32,113 8,668 23,314 6,961 6,761 13,722 9 ,5 9 3 6,912 St age 2 FY 1 8 E 212,053 15% 39,048 11,048 27,833 3,140 7,720 10,860 1 6 ,9 7 3 11,117 FY 1 9 E 243,861 15% 47,334 13,852 33,272 4,517 8,814 13,332 1 9 ,9 4 0 11,871 FY 2 0 E 273,124 12% 54,649 16,432 37,968 2,625 8,226 10,852 2 7 ,1 1 6 14,673 St age 3 FY 2 1 E 305,899 12% 62,982 19,304 43,386 3,610 9,180 12,790 3 0 ,5 9 5 15,048 FY 2 2 E 342,607 12% 72,535 22,542 49,652 4,532 10,245 14,777 3 4 ,8 7 5 15,591 FY 2 3 E 383,720 12% 83,482 26,210 56,875 5,426 11,434 16,859 4 0 ,0 1 6 16,261

CF grth in the terminal yr Terminal grth rate of CF

Source: Axis Capital

10.0% 6.0%

WACC

10.10%

25

Company Financials (Consolidated)

Profit & loss (R s mn)
Y/E M arc h
Ne t sal e s Other operating income Tot al op e r at in g in com e Cost of goods sold Gross profit Gross margin (% ) Total operating expenses EB I TDA EBITDA margin (% ) Depreciation EB I T Net interest Other income P r ofit b e for e t ax Total taxation Tax rate (% ) Profit after tax Minorities Profit/ Loss associate co(s) A dju st e d n e t p r ofit Adj. PAT margin (% ) Net non-recurring items Re p or t e d n e t p r ofit

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

Balance sheet (R s mn)

F Y12
9 2 ,4 4 4 0 9 2 ,4 4 4 -52,748 39,695 42.9 -28,622 1 1 ,0 7 3 12.0 -1,474 9 ,5 9 9 -8,757 2,511 3 ,3 5 3 -1,481 44.2 1,872 7 0 1 ,8 7 9 2.0 19 1 ,8 9 8

F Y13
1 0 6 ,9 5 0 0 1 0 6 ,9 5 0 -61,310 45,640 42.7 -34,840 1 0 ,8 0 0 10.1 -1,784 9 ,0 1 6 -9,849 1,563 730 -1,781 243.9 -1,050 38 0 - 1 ,0 1 2 -0.9 -249 - 1 ,2 6 1

F Y14 E
1 2 0 ,9 0 3 0 1 2 0 ,9 0 3 -68,538 52,366 43.3 -38,295 1 4 ,0 7 1 11.6 -1,930 1 2 ,1 4 1 -7,395 1,209 5 ,9 5 5 -1,974 33.2 3,981 0 0 3 ,9 8 1 3.3 0 3 ,9 8 1

F Y15E
1 4 2 ,0 9 9 0 1 4 2 ,0 9 9 -78,848 63,251 44.5 -43,517 1 9 ,7 3 5 13.9 -2,068 1 7 ,6 6 7 -4,798 995 1 3 ,8 6 4 -4,584 33.1 9,280 0 0 9 ,2 8 0 6.5 0 9 ,2 8 0

Y/E M arc h
Paid-up capital Reserves & surplus Net worth Borrowing Other non-current liabilities Tot al l i ab i l i t i e s Gross fixed assets Less: Depreciation Net fixed assets Add: Capital WIP Total fixed assets Total Investment Inventory Debtors Cash & bank Loans & advances Current liabilities Net current assets Other non-current assets Tot al asse t s

F Y12
1,259 45,359 46,764 81,642 5,157 1 5 9 ,4 8 5 88,984 -10,178 78,806 1,080 79,886 2,358 27,548 17,737 3,632 24,018 25,922 49,807 1,511 1 5 9 ,4 8 5

F Y13
1,259 46,614 47,984 82,459 5,501 1 6 5 ,0 2 6 90,539 -11,848 78,691 1,312 80,003 2,179 25,112 24,171 2,434 26,766 29,083 51,995 1,766 1 6 5 ,0 2 6

F Y14 E
1,453 77,987 79,551 51,959 5,501 1 6 8 ,4 6 2 93,039 -13,778 79,261 1,484 80,745 2,179 27,359 26,845 3,243 24,181 31,452 52,270 1,816 1 6 8 ,4 6 2

F Y15E
1,453 86,842 88,405 43,959 5,501 1 7 4 ,5 1 7 96,039 -15,846 80,193 1,744 81,937 2,179 30,768 31,430 3,427 21,315 36,652 51,883 1,866 1 7 4 ,5 1 7

26

Company Financials (Consolidated)

Cash flow (Rs mn)
Y/E M arc h
Profit before tax Depreciation & Amortisation Chg in working capital C ash fl ow fr om op e r at i on s Capital expenditure C ash fl ow fr om i n ve st i n g Equity raised/ (repaid) Debt raised/ (repaid) Dividend paid C ash fl ow fr om fi n an ci n g Net chg in cash

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

K ey ratios
F Y12
3,353 -1,474 -5,036 7 ,5 6 1 -6,339 - 1 0 ,7 0 3 0 10,670 -331 657 -2,485

F Y13
730 -1,784 -2,971 1 0 ,0 9 1 -2,243 - 488 0 1,864 -332 - 1 0 ,3 6 1 -758

F Y14 E
5,955 -1,930 -726 1 2 ,5 8 0 -2,671 - 1 ,4 6 2 28,009 -30,500 -363 - 1 0 ,3 0 9 809

F Y15E
13,864 -2,068 -473 1 5 ,6 7 3 -3,260 - 2 ,2 6 5 0 -8,000 -363 - 1 3 ,2 2 3 185

Y/E M arc h
OP ERA TI ONA L FDEPS (Rs) CEPS (Rs) DPS (Rs) Dividend payout ratio (% ) GROWTH Net sales (% ) EBITDA (% ) Adj net profit (% ) FDEPS (% ) P ERFORM A NC E RoE (% ) RoCE (% )

F Y12
14.9 26.8 2.5 16.6 25.3 -3.2 -67.0 -67.0 4.3 5.7 0.8 0.6 0.5 70.0 123.6 89.5 1.8 1.7 2.9 1.1

F Y13
-8.0 4.2 2.5 -25.0 15.7 -2.5 -153.9 -153.9 -2.1 4.8 0.9 0.7 0.4 82.5 95.3 84.3 1.7 1.6 2.8 0.9

F Y14 E
27.4 40.7 2.5 9.1 13.0 30.3 -493.3 -440.7 6.3 6.2 1.0 0.7 0.4 81.0 93.5 88.8 0.8 0.7 2.7 1.6

F Y15E
63.9 78.1 2.5 3.9 17.5 40.3 133.1 133.1 11.1 8.6 1.1 0.8 0.3 80.7 91.8 95.1 0.5 0.5 2.4 3.7

Valuation ratios
Y/E M arc h
PE (x) EV/ EBITDA (x) EV/ Net sales (x) PB (x) Dividend yield (% ) Free cash flow yield (% )

EFFI C I ENC Y

F Y12
40.6 13.7 1.6 1.6 0.4 1.6

F Y13
-236.0 29.3 3.0 5.0 0.1 3.3

F Y14 E
94.1 29.9 3.5 4.7 0.1 2.6

F Y15E
40.4 20.9 2.9 4.2 0.1 3.3

Asset turnover (x) Sales/ total assets (x) Working capital/ sales (x) Receivable days Inventory days Payable days FI NA NC I A L STA B I LI TY Total debt/ equity (x) Net debt/ equity (x) Current ratio (x) Interest cover (x)

27

Industry/ Business overview

Huge opportunity Indian alcohol market to double over next 5 years

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

Cross section regression forecast

Our forecast model is based on regression of GDP per capita (in PPP terms) for 18 countries (developed and developing) against their per capita alcohol consumption

Indias Alcohol Beverage market to touch US$ 16.5 bn p.a. in FY18

F Y08 India GDP per capita (USD PPP terms) - 5 year CAGR (%) Po p ul atio n (b n) - A YoY R eal isatio n p er l itre (R s/l itre) - B - 5 year CAGR (%) Per c ap ita Al c o ho l c o nsump tio n (l itres) - C - 5 year CAGR (%) M ark et size (R s b n) - A x B x C - 5 year CAGR (%)
Source: Axis Capital

F Y13 3,851 7% 1. 3 1.4% 112 5% 3. 6 10% 505 17%

F Y18E 5,050 6% 1. 3 1.3% 154 7% 4.9 7% 1020 15%

2,725 1. 2 1.5% 88 2. 2 230

Key assumptions
Growth in income level has positive impact on increase in per capita alcoholic consumption Real growth in Indias GDP (in PPP terms) at 6% p.a. (forecast by our economist) Population growth of 1.3% p.a.

Indian alcoholic market to be US$ 16.5 bn by FY18

Per capita alcohol consumption to grow 38% from 3.6 litres in FY12 to 4.9 litres in FY17E implying 15% CAGR in alcoholic beverage market over next 5 years (vs. 17% CAGR over FY08-13) Yet, Indias per capita spend in FY18 will be 70% lower than Brazil and 40% lower than Thailands current alcohol per capita consumption

GDP vs. Alcohol consumption per capita

A l cohol per C apita 2 010 in litres

14 12
10

R squared = 0.695

Portugal Brazil
Thailand

UK

Germany

Y = 4.19+0.000146*X

8 6 4
2 0

US

Australia

China Philippines India

Thus, income growth is expected to drive volume growth and consumer uptrading over the next few years

10000

20000

30000

40000

50000

60000

GDP p er caita i n PPP terms (USD)

Source: Industry, Axis Capital

29

New users to boost Premium segment

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

New drinkers are drinking better

Improved availability of premium products at attractive price points (blended scotch and flavoured Vodka), rising aspiration levels, and disposable income have boosted consumption of Premium and Prestige segments Over the last decade, penetration of IMFL/foreign spirits across rural households has increased to 3% from 1%, while country liquor has reduced to 10% from 13%

New users getting added to premium segment directly

120 100 80 60 40 20 0 19 14 FY06
Source: Industry, Company, Axis Capital

(%)

Scotch & Premium( >Rs450) Regular (Rs 200-300)

14 14

Prestige (Rs 300-450) Medium & Cheap (< Rs200) 8

45

53

47

and almost 100 mn to be added to drinking age group in next 5 years

Over the last 2 decades, 80-90 mn youngsters have entered the 21 years threshold every 5 years Drinking age population (>21 years of age) has increased to 64.8% in FY13 and is expected to swell to 66.4% by FY18 A sharp rise in Per Capita income from USD 540 in FY07 to USD 1,250 in FY13, has led to higher disposable income driving higher alcohol consumption and uptrading Changing social-cultural landscape new young users see dinking as socially acceptable and aspirational vs. a social taboo earlier Women drinkers (3x growth in past few years) may be the fastest growing sub group in urban markets

33%

22 17

25

39%

47%

22

FY09

FY12*

India likely to add nearly 100 mn to drinking age group in 5 years

1,500

(mn)

Population

Net increase 90

1,300
1,100

90

92 96 85
753 1991

90

900
700

94 838
1996

932

1028

1120

1210

1300

500
2001 2006 2011 2016 2021
Source: CMIE, Axis Capital

30

Indian alcohol industry dominated by spirit consumption

IMFL (~305 mn cases) Country Liquor (~270 mn cases)

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

Distilled spirits (~570 mn cases)

Spirits (including CL) account for ~70% of alcohol consumption in India Indian Made Foreign Liquor (IMFL) comprises whiskey, brandy, rum, gin and vodka Southern states are main consumers of IMFL owing to ban on country liquor

Indian alcohol

Beer (~263 mn cases) Wine (>1 mn case)

Brown spirits dominate IMFL volume consumption (2012)

Gin 1% Vodka 4%

Southern states account for ~60% IMFL volume consumption (FY13)

Others 23% Haryana 2% Punjab 2% UP 3% Rajasthan 3% Delhi

Rum 17%

TN 19%

Karnataka 16%

Brandy 18%

Whisky 60%

4% Maharashtra 5%
Source: Industry, Company , Axis Capital

Kerala 8%

AP 15%

Source: Euromonitor, Axis Capital

31

USL: Leader in spirits galaxy, with premiumization playing out

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

USL market share (vol.)~4x its closest competitor in 2012

(%) 50
46

USLs leadership position in whiskey segment

(%) 52

USL
43
42

Pernod Ricard
42
42 43 42

USL: Vol. market share- Whiskey 50

47

40
30

41

50
48

46
44

45

45

45

44

43 41

20 10
0 5

42 6
6

10

40

38
36

2005

2006

2007

2008

2009

2010

2011

2012

2005

2006

2007

2008

2009

2010

2011

2012

Source: Euromonitor , Axis Capital

Source: Euromonitor, Axis Capital

Premiumization playing out in USL portfolio (Example: Data of select USL premium whiskeys gaining volumes/market share)
Brand McDowell's (UB Group) Signature Premium Whisky Royal Challenge Whiskey (UB Group)
Source: Euromonitor , Axis Capital

Unit in 000' litres Vol % market share in 000' litres Vol % market share in 000' litres Vol % market share

2007 92,846.50 11.7 5,590.20 0.7 7,215.30 0.9

2008 122,702.80 13.4 7,298.90 0.8 7,958.20 0.9

2009 126,196.00 12.1 8,421.80 0.8 7,872.50 0.8

2010 137,858.40 11.7 9,764.00 0.8 7,203.40 0.6

2011 155,282.50 11.9 11,541.00 0.9 8,384.00 0.6

2012 185,969.90 13.2 12,949.00 0.9 9,515.80 0.7

32

Company-wise market share across IMFL sub-segments

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

Company-wise volume market share in whiskey (CY12)

Shiva Dist. 1.9 Radico 3.1 John Dist. 6.5 Jagatjit 9.2

Company-wise volume market share in brandy (CY12)

Others 11.5 USL 41.4

Others 34%

USL 41%

Empee Dist 2% Mohan Meakin 3% Amrut Dist Radico 3% 8%

Source: Euromonitor, Axis Capital

ABD 10.5

Pernod Ricard 15.9

Shiva Dist 9%

Source: Euromonitor, Axis Capital

Company-wise volume market share in Rum (CY12)

USL 38.8

Company-wise volume market share in White Spirits (CY12)

Empee Dist. 0.1

Others 26.2 USL 43.0

Others 42.8

Shiva Dist. 0.2

Tilaknagar 0.2

Empee Dist 1.6

Shiva Dist. 2.0
Source: Euromonitor, Axis Capital

Mohan Meakin 5.9 Radico 4.7 Amrut Dist 4.4

Mohan Meakin 0.9

Pernod Ricard 3.6 Diageo 6.4

Tilaknagar 3.5

Radico 19.6

Source: Euromonitor, Axis Capital

33

Segment-wise key brands in Indian IMFL industry

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

Segment BII Premium Scotch INR 1,600-2,500 BII Regular Scotch INR 1,000-1,200 BII Value Scotch INR 1,000-1,200 Premium Whiskey INR 450-700 Prestige Whiskey INR 300-450 Regular Whiskey INR 200-300 Rum INR 200-300 Vodka INR 200-300 Brandy INR 200-450
Source: Diageo presentation

Largest brand
Black Dog Teachers Highland VAT69

Share
50% 37% 31%

2nd Brand
Teachers 50 100 Pipers Haig

Share
28% 33% 19%

3rd brand
Something Special Black & White Passport

Share
4% 6% 8%

Blenders Pride
McDowells No. 1 Officers Choice Celebration Rum White Mischief McDowells No. 1

44%
49% 23% 43% 47% 41% USL

Signature
Royal Stag Bagpiper Old Monk Romanov Honey Bee Diageo

26%
31% 21% 12% 26% 16%

Royal Challenge
Directors Special Black Old Tavern Old Cask Magic Moments John Ex Shaw

25%
5% 15% 8% 25% 4%

34

Majority of alcohol market under total/ partial government control

Sta te
Tamil Nadu Kerala Andhra Pradesh Karnataka Bihar Chattisgarh Orissa Rajasthan Uttaranchal Madhya Pradesh Delhi UttarPradesh Punjab Haryana Himachal Pradesh Chandigarh Maharashtra Goa West Bengal Daman Jharkhand Assam Pondicherry Tripura
Source: Industry, Company, Axis Capital

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

Distrib u tor
Government Government Government Government Government Government Government Government Government Government Free Private Private Private Private Private Free Free Free Free Free Free Free Free

Reta iler
Government Government Free Free Free Free Free Free Free Free Government Private Private Private Private Private Free Free Free Free Free Free Free Free

Typ e of m a rket
Government controlled Government controlled Hybrid/Partial control Hybrid/Partial control Hybrid/Partial control Hybrid/Partial control Hybrid/Partial control Hybrid/Partial control Hybrid/Partial control Hybrid/Partial control Hybrid/Partial control Auction Auction Auction Auction Auction Free Free Free Free Free Free Free Free

35

Evolution of USL: Key events

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

Mr. Vijay Mallya takes over as chairman of UB group and McDowell

First Indian JV in AlcoBev with United Distillers PLC of UK

Acquires Shaw Wallace & Co, second biggest spirits player in India

Acquired Whyte and Mackay (W&M), and US-based Liquidity Inc, makers of Pinky Vodka

Promoter UBHL and Mr. Vijay Mallya enter into agreement to sell majority stake to Diageo

McDowell and Co is established

Carew & Co, Phipsons, Consolidated distilleries and few other company merged into McDowells & Co
Diageo's open offer to USL shareholders receives muted response. Diageo's gains largest shareholding of 25.02%

McDowell Whisky Launched Mr. Vithal Mallya acquires McDowell and company

McDowells acquires spirits business of Forbes Campbell & Company Ltd

United Spirits created through merger of McDowell & Co, Herbertsons Ltd, Triumph Distillers & Vintners Pvt Ltd and seven other companies. Bouvet and Ladubay acquired

36

How Diageo became promoter of USL deal structure

30 OCT 2013

Company Report

UNITED SPIRITS
FMCG

April 2013

May 2013

July 2013

Diageo now Promoter of USLholds 36.4 mn shares (25.02%) of post issue paid-up equity capital of USL

Open offer Relay B.V. (Diageo) acquired 0.06 mn shares of USL (0.04%) of the post issue paid up equity capital from the public shareholders, pursuant to an Open Offer

Preferential allotment Relay B.V.) was allotted 14.5 mn equity shares (10%) of the post issue paid up equity capital of USL

Share purchase agreement Relay B.V., acquired a further 21.7 mn equity shares (14.98%) of the post issue capital collectively from 5 holding companies

Diageo bought USL shares @ Rs 1,440/share

37

Axis Capital Limited

Axis House, C2, Wadia International Centre, P.B Marg, Worli, Mumbai 400 025, India. Tel:- Board +91-22 4325 2525; Dealing +91-22 2438 8861 - 69; Fax:- Research +91-22 4325 1100; Dealing +91-22 4325 3500
CONFLICT OF INTEREST DISCLOSURE We, at Axis Capital, are committed to providing the most honest and transparent advice to our clients. However, given the nature of the capital markets, from time to time we are faced with situations that could give rise to potential conflict of interest. In order to provide complete transparency to our clients, before we make any recommendations, we are committed to making a disclosure of our interest and any potential conflict IN ADVANCE so that the interests of our clients are safe- guarded at all times. In light of this policy, we have instituted what we believe to be the most comprehensive disclosure policy among leading investment banks/brokerages in the world so that our clients may make an informed judgment about our recommendations. The following disclosures are intended to keep you informed before you make any decision- in addition, we will be happy to provide information in response to specific queries that our clients may seek from us. Disclosure of interest statement (As of October 29, 2013 ) 1. Analyst ownership of the stock 2. Investment Banking mandate No No

We are committed to providing completely independent and transparent recommendations to help our clients reach a better decision.

This document is provided for assistance only and is not intended to be and must not alone be taken as the basis for an investment decision. Nothing in this document should be construed as investment or financial advice, and nothing in this document should be construed as an advice to buy or sell or solicitation to buy or sell the securities of companies referred to in this document. The intent of this document is not in recommendary nature

Each recipient of this document should make such investigations as it deems necessary to arrive at an independent evaluation of an investment in the securities of companies referred to in this document (including the merits and risks involved), and should consult its own advisors to determine the merits and risks of such an investment. The investment discussed or views expressed may not be suitable for all investors
Axis Capital Limited has not independently verified all the information given in this document. Accordingly, no representation or warranty, express or implied, is made as to the accuracy, completeness or fairness of the information and opinions contained in this document The Disclosures of Interest Statement incorporated in this document is provided solely to enhance the transparency and should not be treated as endorsement of the views expressed in the report. This information is subject to change without any prior notice. The Company reserves the right to make modifications and alternations to this statement as may be required from time to time without any prior approval Axis Capital Limited, its affiliates, their directors and the employees may from time to time, effect or have effected an own account transaction in, or deal as principal or agent in or for the securities mentioned in this document. They may perform or seek to perform investment banking or other services for, or solicit investment banking or other business from, any company referred to in this report. Each of these entities functions as a separate, distinct and independent of each other. The recipient should take this into account before interpreting the document

This report has been prepared on the basis of information, which is already available in publicly accessible media or developed through analysis of Axis Capital Limited. The views expressed are those of analyst and the Company may or may not subscribe to all the views expressed therein
This document is being supplied to you solely for your information and may not be reproduced, redistributed or passed on, directly or indirectly, to any other person or published, copied, in whole or in part, for any purpose. Neither this document nor any copy of it may be taken or transmitted into the United State (to U.S.Persons), Canada, or Japan or distributed, directly or indirectly, in the United States or Canada or distributed or redistributed in Japan or to any resident thereof. The distribution of this document in other jurisdictions may be restricted by law, and persons into whose possession this document comes should inform themselves about, and observe, any such restrictions Neither the Firm, not its directors, employees, agents or representatives shall be liable for any damages whether direct or indirect, incidental, special or consequential including lost revenue or lost profits that may arise from or in connection with the use of the information.

38